The Nasdaq was hit with strong selling this morning and
dropped to a new nine month low of 1853 before bargain
hunters appeared. The Dow broke 9950 briefly and the
Russell fell to strong support at 540. High profile
earnings misses and earnings warnings added to the week's
negativity and pushed the indexes to their limits.

Dow Chart - Daily

Nasdaq Chart

SOX Chart - Daily

The morning started out with a high profile earnings miss
by Dow component CAT and it all went downhill from there.
Ironically Caterpillar's earnings miss was due to too
much business and in the rush to fill all the orders they
let costs get away from them. They raised estimates for
the future and said they expect profits to rise +80-85%
for the full year. They are still experiencing very high
sales and construction bottlenecks from the excess demand.
Must be tough to have the market knock you for a -$5 loss
on so much business you can't produce it all.

Sears added to the negativity with a lowered forecast that
did not come even close to prior estimates. Sears said
weak consumer demand nationwide was the cause for its
-83% drop in earnings. Sears said they experienced very
weak customer demand in June and weak spring sales had
caused inventory levels to rise to unacceptable levels.
Sears lowered estimates for the full year to $2.66-$2.86
and well below analysts estimates of $3.65.

Mixed economics did nothing to overcome the negative
earnings sentiment. The Jobless Claims dropped slightly
to only 339,000 from last weeks 350,000. This was not
enough of a drop to build confidence that the last six
weeks of higher claims were easing again. This report
was neutral but was actually the most positive report
of the day.

The Chicago Fed National Activity Index dropped to 0.00
from 0.75 and that May number was revised down from 0.91
and the high for this recovery cycle. The sharp drop in
the national activity index is a wakeup call for analysts.
The production component fell to -0.15 from +0.34 in the
prior month. Industrial production fell 30 basis points
and the ISM composite index fell to 61.1 from 62.8 in
May. This is the first time manufacturing output fell
since May 2003. Employment was negative for the first
time since February. Of the 85 components 58 fell, only
26 improved and one was unchanged. This report is a clear
sign the economy is slowing.

The Conference Board Leading Indicators fell -0.2% and
it was the first drop since March-2003. This was a sharper
drop than was expected with weakness in housing and hourly
work week the main detractors. Half of the components
lost ground for the month and analysts suggest this
projects slowing through the end of the year.

Further weakness came from the Monthly Mass Layoff
report with layoffs jumping +53% in June to 134,588
from only 87,501 in May. Manufacturing layoffs soared
to 27,307 and was the weakest sector by far. This was
still the lowest layoffs for June since 1999 but that
was slim consolation after the jump from last months
low numbers.

Earnings surprises with Dow component CAT knocking -35
points off the Dow at the open and the weak economics
sent the indexes into free fall. The Dow plummeted to
9947 and a level not seen since May 25th. This was a
continuation move to yesterday's reversal drop and
could be seen as a climatic selling event. The Nasdaq
fell to 1853 and a nine month low. This caps a -15%
drop from the 2153 high in January.

After the bell today there was another deluge of
earnings reports headed by Amazon and Microsoft. Both
seemingly on top of the world and doing great. Both also
missed their numbers by a penny. A penny! What happened
to the days of managing your estimates to prevent these
things from happening? (just kidding) Amazon missed
earnings and revenue and but they did post a profit of
+18 cents compared to a loss for the same quarter last
year. This was the fourth consecutive quarterly profit.
Two cents of their income was due to currency translation.
The quarter was weaker than expected for Amazon but we
already know late May and all of June was a challenge
for all retailers. AMZN traded down -2 in after hours.

Microsoft posted profits of 28 cents and a penny under
estimates despite increased revenue. To make matters
worse they guided lower for the current quarter by about
-2 cents. Microsoft dropped sharply in after hours to
$27.34 but recovered to trade just over $28 late in the
session. Microsoft had just wowed investors on Tuesday
with the big $75 billion investor payout and saw its
stock move up to almost $30. If the current trend
continues it could be a long time before we see $30
again. Investors holding on for the $3 payout and
watching the stock drop in after hours are seeing their
dividend slowly slip away. Remember MSFT will open -$3
lower on the day they pay the dividend in November. It
will be interesting to see if the dividend play is enough
to make investors ignore the lowered guidance on Friday.

Tonight's earnings were just about evenly mixed between
beats and misses yet futures saw a serious drop despite
gains by several chip stocks. So far this cycle nearly
50% of the S&P-500 have reported. Before tonight 159
companies have beaten estimates, 45 announced inline
and only 24 missed estimates. This time last year the
numbers were 194, 7, 27. Considering how weak Q2-2003
was relative to the end of 2003 you would expect results
from this Q2 cycle to exceed those comparisons easily.
You can see that although profits are coming in strong
there is a definite case of overly optimistic estimates.

As we move into the summer we are seeing estimates cut
almost daily to match the constant drone of lowered
guidance. Still analysts are stumped as to why stock
prices are dropping. Hello, connect the dots please.
I have mentioned numerous times that falling expectations
coupled with summer event risk does not provide a strong
outlook for stocks.

This does not mean we will not move higher from here
but it does mean there is no overriding reason to rush
into the market. We are at the point where traders
should be positioned to withstand any problems at the
Democratic convention next week. This means we are
ready for a rebound if the convention ends without any
terrorist event. The markets have sold off to major
support levels and pressures appear to have equalized.

The Dow drop to 9946 gave traders looking for an entry
the chance to buy stocks cheap. The bargain hunters
moved in and we saw a rebound on strong volume. Wednesday
was drastically weighted to the sell side and also on
strong volume. Down volume was 5:1 over up volume. Today
that reversed but just barely to 3:2 in favor of up volume.
While we may have had our climatic selling event there
was no V shaped rocket taking off from that bottom.
There is just two much risk in the immediate future
for that pile of cash waiting on the sidelines to jump
back into the fire. However, we are getting close.

The Nasdaq dip to 1853 was the bottom of its downtrend
channel since January. This is the level where it should
rebound OR at least stop dropping. In a nutshell we are
finally positioned for a post convention rebound at
the bottom of our long term ranges.

The wild card tonight is the AMZN/MSFT earnings misses.
The S&P futures fell to 1088.75 but have since rebounded
to 1092.50. The Nasdaq futures fell from their 1405 close
to 1389 but have since rebounded back to 1400. The knee
jerk reaction to the negative news appears to have already
passed and we may not see any adverse reaction when the
markets open tomorrow. Should we see another drop I would
consider it a buying opportunity for those with a strong
appetite for risk.

SPX H&S Chart Daily

There is a train of thought that suggests we are forming
a reverse head and shoulders on the SPX. This faction
believes we will rebound after the convention and return
to the highs around 1160. They are using the great
historical earnings and the growing economy as the
reason for the rebound.

The other viewpoint sees a major breakdown in internals
taking place with the SPX closing under its 200dma at
1105 for the first time since April 16th 2003. The 200
dma is a critical technical level and it has been broken
for several days. The fundamental justification for a
continued decent is the falling guidance and the rapidly
decreasing earnings picture for late 2004 and 2005. The
current earnings estimates for all 2005 are for less than
10% compared with 20+ percent for our last three quarters.
The 200dma is a critical technical indicator for mutual
funds and many will begin scaling back positions if the
index remains under that level.

SPX Chart Daily

So what is a trader to do given the conflicting viewpoints
and the coming event risk? I believe that even if the
bearish viewpoint is the true view we will still see a
post convention bounce. That bounce may only last a short
time but from our very oversold position it is very likely.
The earnings news after the close today could give us one
more entry point on Friday but I would still be cautious
about entering before Monday. Any long positions should
definitely be protected by insurance puts in case of the
worst case coming to pass.

My outlook is going to be completely technically based.
I feel as long as we are under the SPX 200dma we should
be cautiously bearish. Should we move back over that
level I would be cautiously bullish. This is a very risky
environment but at least traders are seeing some nice
volatility return. While traders like volatility I have
seen on the news every day this week that residents in
Boston have been fleeing the city by the tens of thousands
to get away from the potential volatility there. I can
relate to that since we have seen the same thing in the
market all week. Normally these events turn into an
anticlimactic news event and quickly forgotten. A week
from now we will probably be trading several hundred Dow
points away from our close today. The only question is
which direction?